This article will help you answer the following questions. If you have not read our previous article on risk management, we advise you to start with it.
- What is your percentage of drawdowns? At what point do you take a loss to avoid big losses?
- Will you change your strategy if you get a run of bad luck,
- Your actions when the market is in a Flat,
- How are you going to manage volatility
- How do you prepare yourself psychologically?
When you create a business plan, you include planned expenses there. It works on the same principle. Any profit includes planned risks as well as losses.
Their level depends on the size of the profit that you expect to receive. For example, if you plan to reach 100% per annum, then you should establish 30% of the drawdown. If someone promises you 100% + and only 5% of the drawdown - it is false.
This is the amplitude of price fluctuations, the difference between the maximum and minimum of the candle, for a certain period.
Low volatility is like a dead market: the price stands still, you have no chance to make money. A destabilization can bring big money, although these opportunities are risky, but they can make a profit.
Volatility is expressed by:
- In absolute value - in money: in BTC, USDT or any other currency. The absolute value is used to analyze the risk and to determine the size of the position.
- In percents. This is a relative value that traders use to compare different currency pairs.
Let's look at the example:
Pay attention to the last two candles.
Price range (volatility)
$ 184.94 - $ 181.34 = $ 3.6,
$ 184.77 - $ 178.83 = $ 5.94.
How the volatility of the last candle has changed to the previous one:
($ 5.94 - $ 3.6) /5.94*100% = 39.4%.
Volatility is calculated as an average value over several candles, this gives greater accuracy and objectivity. On the same chart, we take the price ranges of the last 20 candles, except for the last one, summarize them and divide by 20. It turns out that the average value is $ 3.25. Do the same, only including the last candle. So we have $ 3.38. If we compare these average numbers, we get 3.8%.
Volatility can be calculated for any periods. There is also historical volatility - the price range in the entire history of the coin.
Recommendation: calculate volatility over the average period of position holding. Take the values of the timeframe on which you are trading. If this is a daily chart, you open a position and set a stop loss level, according to the situation on it, then follow a daily volatility.
Where are the risks lower: in a Short-term or in a long-term trading?
Some traders believe that short-term trading is less risky.
In crypto, a short-term trading may indeed carry less risk, perhaps this is due to the specifics of the cryptocurrency itself, but nothing is written in stone.
According to the logic of short-term trading fans, it does not require deepening into the capital management strategy. The second stereotype is that the potential for loss depends on the time interval: the more longer-term trading strategy, the more it is. This is a mistake.
Profit and loss are proportional.
Short-term systems will never allow you to be in a trend long enough to achieve a large profit. As a result, you will get small losses, but also small profits. And if to summarize everything, then small losses turn into big ones. Big trends are big money, which will more than cover all minor losses.
Stop Loss: to be or not to be?
“There are old traders, and there are brave traders, but no old brave traders "
quote from the internet :)
Everyone knows that the main task of Stop Loss is to protect the position from a big loss. But by Stop Loss does not protect the funds itself.
In the book “Turtles-traders” Michael Covel outlined the trading system, which Richard Dennis and William Eckhard trained 23 people in just two weeks, and subsequently received $ 100 million. Among other things, Dennis and Eckhard taught their wards not to send a stop loss order to a broker after opening position, instead go out with a market order, as soon as the price reaches the planned level.
Testing: how Stop Loss affects the result
Larry Connors and his team investigated the optimal Stop Loss level, the results of which Connors outlined in his book Short Term Trading Strategies That Work.
According to their trading strategy, they exhibited stops as a percentage of the entry point.
The results were quite unexpected:
- Generally, without a Stop Loss, the average percentage of the profit to loss ratio is 0.58%
- If a Stop Loss is 50% of the entry point, then this ratio is 0.56%
- The closer the stop loss is to the entry point, the worse the profit to loss ratio.
According to the author, the reason is simple: experts, market makers, professional traders know where stop loss is located. If they see an order for a large position, then their stop losses automatically become a prey.
Types of Stop Loss
So, we realized that Stop Loss could be actual and mental. If you close by Limit, then this is a real actual Stop Loss. It is set in the system in advance and will work as soon as the price drops. Mental is when you exit a transaction with a market order when the price reaches a level previously set by you. It is not found anywhere, you plan it in your head and sell coins only when you reach this level.
Psychological aspects of risk management
In many ways, the risk management strategy depends on the emotions and nature of the trader. It can be aggressive when the trader consciously sets the bar higher and higher for more money, and there are conservative traders.
Emotions and risk management
Fear and greed divide traders into two large groups.
Traders who are more prone to fear, limit their risks to the maximum. They set their Stop Losses closer to the entry point. If a crypto moves against their position, they cannot keep calm and close the deal prematurely. It is called conservative risk management.
Those who are led by greed, on the contrary, try to stay on the market as long as possible, even if they risk a significant drawdown. Such market players place Stop Loss at a considerable distance from the entry point, providing a price perspective for movement and wait for the price to move against their position for some time. This is an aggressive risk management.
How to determine your risk tolerance?
Open a position and wait for the situation when the price has started moving against you. If you can stay calm, then your tolerance for risk is large enough.
Does success in trading depends on the size of the risk? It is believed not. It depends on how well you use the risk management strategy.
- The strategy should include the size of drawdowns, which depends on your goals and timing.
- You could choose the optimal volatility for yourself.
- The closer the stop loss is to the entry point, the worse the profit to loss ratio
- It is safer to close deals on Stop Loss with not previously planned orders, and a market order when the price reaches a level previously set by you. Then professional market players will not be able to predict your actions.
- Profit and loss are proportional. Risks do not depend on the timing of the position, but on how competently you use the risk management strategy.
We hope this article will help you reduce losses and increase profit, and our algorithms will implement your strategy around the clock. If you start earlier - you will see the result earlier!